TELECOMS: Huawei Lands at Center of US-China Trade War

Bottom line: The US case against Huawei's
CFO is likely to end with her release on technical grounds as part
of a deal between the US and China, though the company could still
face punishment for illegally selling US products to Iran.

It's a few days old by now, but
I wanted to begin the new week by sharing some of my thoughts on
the recent blow-up involving telecoms equipment
giant Huawei's
CFO, who was detained in Canada at
Washington's request. At this point I mostly want to give my views
on the politics behind this story, and also my take on how things
are likely to play out.

I'll start off with the view that this particular story has been
a long time in the making, and anyone who thinks it was cooked up
by Donald Trump as an excuse to wring concessions out of China is
mistaken. I'll also give my view that this kind of come-uppance for
a corporate giant like Huawei is relatively deserved, since Chinese
companies have basically thrived and grown as quickly as they have
by frequently thumbing their noses at the law.

Then there's the question of whether the punishment fits the
crime, which is open to interpretation. But in this case there's
really no specific punishment yet, and we can only guess at what
might be coming to answer that question.

For now let's backtrack and recap all the events from the past
few days in what has become a major global story. That story
actually began more than a week ago when Huawei's CFO, Meng
Wanzhou, was arrested by police while transiting through Vancouver
on Dec. 1. (English
article) It seems that Meng, who also happens to be the
daughter of Huawei founder Ren Zhengfei, was wanted by the U.S. in
connection with violating sanctions against Iran.

There hasn't been too much explicitly said about the case
against her, but apparently it links back to a company that was
closely tied to Huawei called Skycom, which just happened to count
Meng as one of its board members in the past. Skycom at one point
tried to sell equipment from Hewlett-Packard to
Iran, which was forbidden under U.S. sanctions at the time that
banned the sale of any American-made products to Iran. It may be
worth pointing out the sales never actually occurred.

Following her detention at Vancouver airport, Meng appeared at a
bail hearing in court on Friday (English
article) where the U.S. began laying out some of its case
against her, since it will ultimately have to convince Canada to
extradite her. That hearing will conclude today, Monday, U.S. time,
and I do expect she will probably get out on bail. Over the weekend
the Chinese embassy issued a few strongly-worded statements calling
on both the U.S. and Canada to free Meng and blasting them for
impinging on her rights.

Nothing New

Now that we've gotten the facts out of the way, let's start with
some of my interpretation on what's happening, whether any of this
is tied to the current U.S.-China trade war, and what's the likely
outcome. In answer to the first question, this latest development
appears to be tied to a case that's been going on for quite
sometime. Newspaper reports that Huawei was being investigated date
back as far as around five years, and the New York Times reported
on specific subpoenas related to the case a couple of years ago.
(English
article)

What's more, Huawei rival ZTE
(HKEx: 763; Shenzhen: 000063) was nabbed for similar illegal sales
earlier this year, and only got off the hook after agreeing to pay
a massive fine and fire all of its top executives. (previous
post). Part of that deal included unspecified "cooperation"
with US investigators, and I wouldn't be at all surprised if part
of that included helping to expose how Huawei used similar tactics
to try to skirt US sanctions.

The bottom line is that Chinese companies frequently flaunt the
law, be it foreign or their own laws, until someone with the power
to shut them down or arrest them tells them to stop. E-commerce
giant Alibaba
(NYSE: BABA) thrived for years by turning a blind eye to the huge
volume of counterfeit goods being traded in its marketplace.
Similarly, search giant Baidu
(Nasdaq: BIDU) did things like allowing illegal trade in
copyrighted music on its site and disguising paid ads as organic
search results.

Huawei itself was accused at one point of copying massive
amounts of software from products made by Cisco
(Nasdaq: CSCO), though that was more than a decade ago. But the
point is that this kind of illegal activity is part of the
"business model" of many Chinese companies, and a factor that
allowed them to grow so quickly.

All that said, China's strong reaction to what's happened, even
though it probably realizes the US has a strong case against Meng,
probably means it wants to wrap this up quickly before anything too
embarrassing comes out. The US and Canada are denying any politics
behind the timing of Meng's arrest, though I have a hard time
believing that.

At the end of the day, I have to believe Donald Trump is trying
to use this case to pressure China to quickly reach a deal to end
their current trade war, and extract the best concessions possible
from Beijing. Accordingly, I would predict the case could reach a
conclusion that will see Meng released on some kind of technical
ground, and perhaps Huawei will ultimately be forced to pay a fine
and face other remedial action similar to what happened to ZTE.